By Silvestre Reyes President Barack Obama’s recent success in the Republican-controlled Congress — passage of the Trans Pacific Partnership — has American businesses and investors looking to expand their reach into Asia. South Korea is one of the world’s largest and fastest growing economies, and the potential for future investment in that nation is sure to attract attention.
Recent developments in country, however, are generating legitimate concerns about the risks for foreign investors. Specifically, a move by the mega-corporation Samsung could have a chilling effect on the scale of future American economic involvement in South Korea.
Samsung is known as a chaebol, a Korean term similar to the English word conglomerate, which means that the company is an affiliation of many separate companies across industries and sectors, which are almost always owned, controlled or managed by the founding family. Other major South Korean chaebols include Hyundai and LG.
The Lee family, which runs Samsung, is seeking to shore up control ahead of a planned power transfer from the current patriarch, Lee Kun-hee to his son, Lee Jay-young. In a controversial transaction nearly 20 years ago, the younger Lee was effectively gifted enough shares to become the dominant shareholder in Cheil Industries, which holds stakes in key Samsung affiliates and functions as a quasi-holding company for the group. By having Cheil acquire Samsung C&T in an all-share deal, Jay-young will control its 4.1 percent stake in Samsung Electronics at the expense of only a few percent of his holdings in Cheil, rather than the billions of dollars he would have had to pay to acquire the electronics stake in the open market.
Cheil’s offer significantly undervalues Samsung C&T. Indeed, the deal is so bad that Cheil effectively would pay less than what Samsung C&T’s equity holdings in other Samsung affiliates (including its stake in electronics) are worth on their own. Simply put, Samsung C&T shareholders will be giving Cheil Samsung C&T’s core construction business without compensation.
Investors are understandably outraged, including a US-based fund that holds over 7 percent of Samsung C&T shares and has adamantly opposed the deal. In late June, an independent proxy adviser service Glass Lewis & Co., issued a report, advising shareholders to vote against the deal, questioning its strategic merit and noting the poor financial terms for investors. Just last week, the other major proxy adviser, ISS, also issued a critical similar report urging a no vote shortly. In addition, the terms of the deal have angered many of Korea’s smaller retail investors, who have engaged in an unprecedented campaign, claiming the deal is unfair. At least 2,500 of them have pledged to vote against the merger at the July 17 shareholder meeting.
While this controversial merger is receiving international attention, it is not an isolated occurrence. A deal between Korean chaebol affiliates SK Holdings and SK C&C was recently approved, significantly boosting the influence of its owning family, including the company’s chairman who is currently imprisoned for embezzlement. As in the case of Samsung, this deal undervalued SK Holdings and benefited the family at the expense of minority shareholders.
The chaebols have been crucial to Korea’s growth over the years, but they have also amassed a remarkable record of embezzlement, bribery, and other financial crimes that enrich and empower the families that run them at the expense of employees and shareholders. The practice of boards allowing chaebol to treat publicly traded companies as personal property is one reason why many view Korea as a riskier investment than its OECD status would otherwise imply.
Weak corporate governance, and the inequality and imbalance of power and wealth that result, is not just a foreign investment problem, it impedes Korea’s economic growth. The push by large and small shareholders, and the critical reports by ISS and Glass Lewis, should encourage the Korean government to explore ways to ensure the genuine independence of outside directors and curb the abuses of the country’s wealthiest and most privileged families.
Like previous Korean leaders, President Park Geun-hye promised to pursue an agenda of “economic democratization” that included a promise reining in some of the worst chaebol abuses. Unfortunately, that pledge seems to have fallen by the wayside and there has been little sign of reform. To take its rightful place on the world financial stage, Korea will need to take the problem of the chaebols seriously.
Silvestre Reyes represented Texas’ 16th District in the House of Representatives from 1997 to 2013, and served as chairman of the House Select Committee on Intelligence.
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